Chicago teeters on the edge of financial oblivion

Sure, I could write that headline about any number of cities, and you could say Detroit is doing a lot more than just “teetering on the edge of oblivion.” But it’s going to be a huge deal when Chicago goes down… and I think “when” is the appropriate word to use, not “if.” The lovely state surrounding Chicago isn’t in very good shape either, and the nation surrounding that isn’t exactly rolling in dough.

Tell me you can’t see a story like the one written by the Chicago Sun-Timesyesterday being written about the U.S. government, the day after tomorrow, especially after Chicago mayor Rahm Emanuel’s old boss Barack Obama has been running the joint for eight long years:

Already facing a host of financial worries, Mayor Rahm Emanuel’s administration could be stuck with a nearly $200 million tab as a result of betting heavily on risky interest-rate “swaps” under former Mayor Richard M. Daley.

The deals required the city to maintain a certain credit rating, but the rating has fallen since the Daley administration made them, putting the city at risk.

The financial institutions involved could terminate the deals and demand immediate payment if the ratings agency Moody’s Investor Service drops the city’s credit rating again — which it has warned it will do unless Chicago’s underfunded pensions are dramatically reformed.

Taxpayers could end up owing bankers and other financial institutions, including Wells Fargo and Loop Capital Markets, $110.4 million if Moody’s drops its rating for Chicago by one notch, according to documents reviewed by the Chicago Sun-Times. Falling two more levels could cost the city another $88.5 million.

Back when Uncle Sam’s credit rating was downgraded by one agency, I was curious to know what would happen if the other big ratings services followed suit, and the decline went from “still top-shelf but making everybody nervous” to something a bit more dire. I was not heartened to learn that nobody really knows what will happen if the entirely unique credit profile of the United States goes into the tank – it would be an event unprecedented in modern financial history. But we’ve got some clues from watching lesser countries turn into basket cases, and now we’re seeing it happen in Chicago. When you’re carrying an incomprehensible amount of debt, small variations in the interest rate means big bucks… and that can touch off an ugly death spiral, as money swiftly vanishes from the Treasury, making lenders even more nervous.

What happens if Chicago’s rating gets any worse? I doubt anyone at the Sun-Times was happy to break out the D-word:

Another ratings drop would present the city of Chicago with the kind of problem Detroit experienced before it fell into bankruptcy. In 2012, Detroit’s bond rating went below the level it needed to maintain under its swap deals, giving bankers the right to claim about $350 million from the Michigan city. The bankruptcy judge in Detroit’s case recently whittled what he said the city would have to pay the bankers to $85 million, after rejecting two larger settlement figures that city officials and bankers there had agreed on.

Illinois, which under Governor Pat Quinn has been embarked on a years-long project to find out what happens to the tax base after all the taxpayers have been driven out of a state, is not in shape to catch Chicago when it does the Detroit Dive. Fortunately, Chicago’s not as far gone as Detroit was… not yet, anyway. These things have a way of snowballing, especially when the wrong people are in charge, which in Chicago is pretty much guaranteed to be all the time. As with U.S. sovereign debt, one of the best things Chicago has going for it is the reluctance of its creditors to lay the city low by making too many harsh demands… but governments can’t stave off doom indefinitely by taking themselves hostage.

I’ve been wondering what the American systemic crash would look like when it arrived. I don’t think it’s very far away, and it’ll get here long before those budget spreadsheets hit the vanishing point of absolute collapse – the point at which 100 percent of government spending is consumed by entitlements and debt service, for example. Things will fall apart much sooner than that, and I’ve come to think the dominoes will start tumbling when cities and states crash, and demand bailouts from a federal government that cannot provide them. How many Detroits can even the mightiest economy on Earth survive? I’d rather not find out.